Accounting for Performance Awards: An  Introductory Guide for Equity Compensation Professionals

As performance-based equity has become a cornerstone of modern compensation strategies, accurately accounting for these awards under ASC 718 is essential. This guide is designed to help finance leaders, equity administrators, and accounting professionals understand the nuances of recognizing expense, estimating fair value, and vesting conditions for performance awards.

Understanding Performance Awards

Performance awards are typically structured to incentivize long-term achievement and shareholder alignment. These awards may vest based on:

• Service conditions – requiring continued employment over a specified period.
• Performance conditions – tied to internal metrics such as Earnings Per Share (EPS) growth, revenue, or strategic milestones.
• Market conditions – linked to stock performance metrics like absolute or relative Total Shareholder Return (TSR).

These conditions can appear alone or in combination. For example, a performance share unit (PSU) may require both three years of service and a relative TSR metric. The nature of the condition impacts how the award is valued and expensed.

Tip: Always distinguish between performance and market conditions, even though both are commonly labeled “performance awards.”

Fair Value Measurement

• Performance and service conditions are ignored in fair value estimation.
• Market conditions must be reflected in the fair value estimation and are typically modeled using either:
• Monte Carlo simulations
• Binomial lattice models

For equity-classified awards, the measurement date is typically the grant date. Liability awards must be re-measured through settlement.

Example: A PSU with a relative TSR metric may be valued at $60 fair value despite a $50 grant date stock price, reflecting outcome probabilities modeled in a Monte Carlo simulation.

Requisite Service Periods

The expense period depends on:

• Explicit service period: Stated in the grant agreement (e.g., three years of service)
•  Implicit service period: Based on the expected timeline to achieve a performance goal
• Derived service period: Output from valuation (e.g., Monte Carlo model determines the median time to reach a stock hurdle)

For awards with multiple conditions:

• AND conditions: Use the longer of the periods
• OR conditions: Use the shorter

The Requisite service period is determined based on the analysis of all relevant service periods.

Scenario: If a stock price target is expected to be achieved in four years but service must be provided for three, the requisite service period is four years (the longer).

Expense Accrual and True-Ups

Each reporting period’s expense is determined by:

1. Estimated total cost: Fair value × target awards (or awards probable to vest for performance conditions as explained below)
2. Time elapsed: Portion of the service period completed
3. Prior accruals: Expense already recorded

Adjustments follow:

• Performance conditions: The number of awards are updated with expectations (true-up)
• Market conditions: Not trued-up (fully captured in the fair value)

Example: A company expecting 100% payout on 100 PSUs valued at $50 would recognize $5,000 over 3 years. If projections rise to 200% in year 2, the total expense increases to $10,000, and expense is trued up and the new rate is applied prospectively.

Expense Attribution: Tranche-by-Tranche

Under ASC 718, accelerated attribution is required for awards with performance or market conditions because vesting is tied to specific tranches with distinct service periods. In contrast, straight-line attribution is permitted only for time-based awards with cliff or graded vesting. This ensures expense is recognized in alignment with the timing of service and performance obligations.

For performance- or market-based awards, front-loaded attribution is required:

• Each tranche’s cost is recognized over its specific period
• Straight-line expense is disallowed

The following example contrasts straight line versus accelerated recognition:

300 time-based stock options granted

3-year graded vesting schedule

Grant-date fair value = $20 per share

	Year 1	Year 2	Year 3	Total
Number of Vested Awards	100	100	100	300
Straight-Line Attribution	$1,000	$1,000	$1,000	$3,000
Accelerated Attribution	$1,833	$833	$334	$3,000

Straight-line attribution distributes expense evenly over the 3-year vesting period. Minimum aggregate compensation expense is recognized for each year.

Accelerated attribution method front-loads expense in Year 1 as the $1,000 of expense related to tranche 1 is recognized and then half and one-third of the expense related to tranches 2 and 3 thereafter.

Practical Examples

Performance-Based Award- For performance conditions, the fair value is fixed but probabilities and payouts must be reassessed each quarter and expense should be adjusted appropriately.
Assumes the following scenario:

•  300 PSUs granted based on EPS growth vest between 0–200% of target
•  3-year performance period
•  Grant-date fair value = $20 per share

The expense could be adjusted as follows:

	Grant Date	Year 1	Year 2	Year 3
Payout Assumption (EOY)	100%	100%	50%	150%
Total Expected Expense	$6,000	$6,000	$3,000	$9,000
Proportion of Requisite Service Period	0.0%	33.3%	66.7%	100.0%
Annual Expense Accrued	$0	$2,000	$0	$7,000
Cumulative Expense Accrued	$0	$2,000	$2,000	$9,000

Market-Based Award: For market-based conditions, the expense is fixed as of the grant date and amortized over the requisite service period with no adjustments made, regardless of final performance, other than pre-vesting forfeitures.

•  300 PSUs granted based onrelative TSR
• Stock price =$20 at grant
• Grant-date fair value = $30 per share (based on Monte Carlo simulation)·  

The expense accrued would be as follows:

	Grant Date	Year 1	Year 2	Year 3
Current Payout	100%	0%	125%	200%
Total Expense	$9,000	$9,000	$9,000	$9,000
Proportion of Requisite Service Period	0.0%	33.3%	66.7%	100.0%
Annual Expense Accrued	$0	$3,000	$3,000	$3,000
Cumulative Expense Accrued	$0	$3,000	$6,000	$9,000

Note there is no change in expense even though awards pay out at 200% since the probability of a 200% payout was already baked into the grant date fair value.

Pre-Vesting Forfeitures

Regardless of method, ASC 718 requires that cumulative expense at any point reflects the grant-date fair value of vested awards to date. This ensures compliance with minimum recognition thresholds.

• A company estimates 10% forfeiture rate at grant
• If an employee leaves in Year 1 and forfeits unvested shares, expense is reversed
• Two approaches:
  • Recognize forfeitures as they occur (actual)
  • Estimate and reconcile annually (expected)

 Note: ASC 718 requires companies to reassess forfeiture assumptions annually if they estimate.

Summary Table

Condition Type	Valuation Impact	True-Ups	Expense Treatment
Performance	No	Yes	Tranche-based
Market	Yes	No	Tranche-based
Hybrid	Yes	Only on performance-condition	Tranche-based

Final Thoughts

Navigating the accounting complexities of performance awards demands technical precision and close collaboration across finance, HR, and legal. Missteps can lead to misstated financials or unanticipated expense swings. With a strong understanding of ASC 718 principles and proper systems in place, companies can account for these awards accurately while supporting transparency and strategic decision-making.

Want to evaluate your current expense modeling or accounting framework? Connect with the experts at Infinite Equity for expert guidance tailored to your plan structure and compliance needs.